HUL Vs Gold. Which is a better buy?

(Apr 29, 2013)

In this issue:
» Reasons for near zero interest rates in West
» Benefits of long term investing versus market timing
» How to spot a Ponzi scheme?
» Is the time ripe for ECB to cut rates?
» ...and more!

00:00

Every investment has an opportunity cost attached to it. And hence while making investment decisions one has to make prudent choices. Let us put it this way, say for example, you have Rs 10,000 to invest and there are two options available. For simplicity, we assume gold and equities as two options. Choosing one means investor would lose out on the return of other. Hence, he needs to choose his option very carefully.

Now, obviously which option the investor chooses depends upon his risk return considerations. It is obvious he would choose an option that offers him highest return with minimum risk.

The recent correction in gold prices has fuelled an interesting debate as to whether holding gold for the very long term is a better option than buying great stocks. Let us check out both these options in more detail.

For comparison purposes, let us assume the investor has an option to either invest in HUL (a solid bluechip company) or gold. And he has a long term investment horizon of say 5-10 years. The reason we chose HUL is because of its strong fundamentals and competitive advantages. Also, being a consumption story it offers long term visibility.

First, let us assume the investor put his money in HUL. Over the last 10 years the stock price has increased at a compounded rate of 12.8%. Thus, implicitly owning HUL, is equivalent to a owning a risk free government bond when past yields are considered. Not to forget the hefty dividends it has been paying to the investors all these years. Predicting future capital appreciation is a difficult task. But considering the past history and stable business model one can reasonably expect an inflation beating return from the stock over the next 10 years.

Now, let us assume investor put his money in gold. The only return he would get is capital appreciation. Over the last 10 years the gold price has compounded at a rate of 13.6%. But do not forget there is no dividend income attached to gold. Also, one has to incur rental and other storage cost associated with gold. Thus, after incorporating for these costs the performance seems neck to neck.

However, it may be noted that owning gold has another benefits attached to it. It is a safe haven and a good hedge against inflation. As such, its demand is virtually perpetual. Also, it is not subject to management quality risk which stocks are most susceptible to. Nonetheless, it should also be remembered that gold has no intrinsic value since it is a commodity. Prices are more dependent upon demand supply economics, inflation and faith in the paper currency system. Hence, predicting future prices becomes difficult.

Thus, it won't be wrong to say that stocks have relatively more long term visibility than gold. Having said that, a company like HUL might offer a better upside potential but gold can guard you against economic uncertainty, currency risk and inflation risk. Thus, while investors should not try to replace their long term stock investments with gold, holding at least 5% of one's portfolio in gold is a smart choice we believe.

That oil is one of the largest components of imports for India is not really news. In fact, increasing import of oil is one of the factors behind our fiscal deficit. The deficit for FY13 was burdened even further by higher import of oil. This was to meet the increase in oil demand.

As per a study carried out by Barclays and printed in The Mint, demand for oil increased by 4.7% during FY13. This is one of the highest increases in history. The increase in demand was fuelled by an increase for nearly all of the refined products with the exception of kerosene. The largest surge was in the demand for diesel which increased by 7%. As domestic production did not increase at the same pace, we had to depend on imports to meet the higher demand. As such, net oil imports increased by 8% YoY during the year. In order to curb this, the government needs to focus on boosting domestic oil production. But production has lagged due to lack of investments by domestic companies particularly in terms of technology related investments. Foreign collaborations in the sector have also suffered due to high regulatory risk. These issues need to be sorted at the earliest if India wishes to cut down its reliance on imported oil. Otherwise the burden on our fiscal deficit side from oil will not ease any time soon.

Data source: Mint

02:10

The Reserve Bank of India (RBI) has maintained a hawkish stance on the monetary policy. Interest rates have been kept high due to the persistent inflationary pressures in the economy. In the developed economies, the scenario is starkly opposite. For instance, 10-year interest rates in the US, the UK and Germany are around 1.5%. In Japan, that is even lower around 0.8%. Why are investors willing to park their savings in such low yielding assets? In fact, if you adjust for inflation, the US Treasury bills carry negative returns upto 15 years!

Harvard economist Kenneth Rogoff shares some interesting insights on the reasons for the near-zero interest rates. One of the major reasons for the low interest rates is a flood of savings. Reasons vary from retirement savings in developed economies to reserve accumulation by emerging economies to savings by oil exporters. Secondly, some major global central banks have suppressed short term policy rates to near zero to battle the financial crisis. Thirdly, there are growing fears of another major global crisis. This has seen investors fleeing towards safe havens such as bonds.

The next question is: how long will these factors last? Mr Rogoff believes that the factors that led to excessive savings would eventually reverse. For instance, as people retire in developed economies, the savings will go down. The end of the commodity boom also means lower surpluses for exporting countries. Several factors that led to such low global interest rates are bound to diminish over time. As such, the current low rate scenario is not as stable as it appears.

02:45

We are not experts in timing the market. Nor do we believe that such a strategy yields safe returns for retail investors. On the contrary, trying to time the market for both buying and selling stocks and other asset classes can be a very risky proposition. For stocks in particular, it is a proven fact that long term value investing can yield better returns than market timing. Investors who have bought good stocks cheap and held them for long term have reaped richer return than those who bought at troughs and sold at peaks. In fact a single bad timing could wipe out gains or multiply losses in the investor's portfolio. Hence be it stocks or gold or any other asset class, it would be a good idea to invest based on long term fundamentals rather than market sentiments. It would also not be out of place to suggest that investors could spread their purchases over a period of time rather that than buying at one go. In times like these when the risks outweigh near term returns for most asset classes, one cannot exercise enough caution. Hence doing enough homework, keeping a watch on asset allocation and keeping patience with one's investments can be the best way forward.

03:20

If it is too good to be true, it probably is. This is perhaps the best description of the kind of returns Ponzi schemes, most of who go around by the name of chit funds, tend to offer. Honestly, how would someone fall for such assured returns like 20% per month or the promise of 200-fold returns over five years is just beyond us? However, it still hasn't deterred investors from investing in these schemes and lose their shirt in the process.

Having said that, too good to be true returns is not the only way one can identify a fraudulent investment scheme. A leading business daily has talked about several other signs investors can do well to remember. Some of these are unviable business models, the background of the company and its promoters and registration details. Then there are also things like the company's ratings and its terms and conditions. Thus, if most of these factors look like they're raising a stink, an investor should steer clear of such schemes we believe.

04:05

As the Eurozone languishes in recession and unemployment reaches record levels, the European Central Bank (ECB) is toying with the idea of lowering interest rates. If it does so, it will be the first rate cut in 10 months. Things are not looking great in the region. Certain countries continue to remain on the edge of bankruptcy saddled with too much debt. As per an article on CNN Money, unemployment levels in Greece and Spain have scaled new peaks of above 27%.

What is more, more than half of young workers under the age of 24 are out of work in both nations. Already, interest rates are hovering around zero; the latest rate being 0.75%. So what the ECB expects from an additional rate cut remains a mystery. The Eurozone has structural problems that it needs to address such as too much debt, poor growth and lack of job creation. Short term solutions such as interest rate cuts will hardly solve the problem as the past has shown.

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It is not fair to compare return on investment in Gold V/s HUL alone. One should note that it remained underperformer stock for last 10 yrs. One should also include HDFC Bank, M&M kind of stocks for the comparision. Gold has grossly underperformed than equity in last 10 yrs period.

Albeit its really a tough choice and I personally have exposure in Gold I go with HUL where consumption story gives one very strong rational for not to go with the former as there is no actual consumption where FMCG is bound to grow and if it is under name like HUL its erodes other confusions.

Do you think investors should replace their long term stock investments with gold?

The answer to this question should ideally be given by someone who is neutral, ie, does not hold either gold or invests inequity. Other wise your opinion will be biased. This is because you normally say what you want to happen.Someone like me who does not have either, the investment is gold is still a better option because lets say if both gold and equity do not perform, then at least you can sell gold and still get the money, it will be difficult to sell the shares and get money.

Ponzi schemes thrive mainly because of the uninformed and uneducated rural folk are taken by the promise of the agents. I am not ruling out greedy urban citizens, but main victims of these schemes are poor and uninformed persons enticed by agents.

Investing in Gold is part of the diversification strategy, so cannot consider substituting gold with soem blue chip stock. Historically Gold and stock prices are negatively corelated, so having Gold in one's portfolio seems to be a good way to counter the volatility of the stock market. But the situation is becoming increasingly difficult as Gold prices are also fluctuating-- if tommorrow the demand for Gold were to drop suddenly, we would be holding worthless metal--Gold has very limited industrial use so the demand is solely because of people's desire to own gold as investment/jewellery, as long as peoples' greed for the yellow metal remains, gold will continue to appreciate. regds

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